Many happy returns: the tax advantages of leaseback

Buying a leaseback home can be a tax-efficient way of investing in French property. Kehinde Dauda explains the tax advantages associated with this type of purchase

Many readers will be aware of French leaseback properties and will have heard about how tax-efficient they can be. I will not be describing them here in great detail, instead focusing on the tax advantages associated with them.

The scheme

The French leaseback is a property purchased by an individual who then leases it to a property management company over a period of typically nine to 11 years. The property management company then sublets it as a furnished property. The investor is guaranteed an annual rent under the lease and may also use the property for part of the year.

French leaseback properties belong to a class of properties known in French as résidences de tourisme classées. They are regulated under French law and have a special status offering some tax advantages. This special status, granted by the French state, is deliberate; it serves to promote the French tourism industry. These properties and the way they are operated must meet certain requirements in order to qualify as résidences de tourisme classées and thereby retain the tax advantages.

Furnished lettings

In order to benefit fully from the tax advantages, the investor has to lease the property furnished. This means the rental business is considered a commercial activity and is taxed under the BIC (bénéfices industriels et commerciaux) trade income regime. This is in contrast to unfurnished lettings which are taxed as revenus fonciers, or rental income.

If the annual gross rent is under €82,200, a simplified treatment (called micro-BIC) applies, which is simple to operate: actual expenditure is ignored and is deemed to be 71% of gross rent, meaning profit is automatically 29% of gross rent.

However, there is actually more scope for tax savings if you opt for the BIC réel treatment as in this regime you claim actual expenses.

• You can deduct depreciation (you deduct the cost of the property evenly over 25 years for example).

• Rental income on a leaseback property is subject to VAT, which the investor can reclaim. You can only opt for VAT under BIC réel; the option is not available under the micro-BIC regime.

• You can recognise losses and offset them against future profits.

Wealth tax

Assuming the French leaseback property is your only French asset, wealth tax is not of concern if its value is under the wealth tax threshold of €1.3 million.

Capital gains

If the property is held for 22 years then no French capital gains tax is due on disposal, and if held for 30 years no social charges are due either. Under current rules, UK capital gains tax is due on a capital gain subject to any available reliefs.

Property taxes

Strictly speaking the owner is liable for the taxe d’habitation, although in some cases the property managers pay this. Taxe foncière is due by the property owner.

Investment comparison

To give you a better idea of how your tax regime will affect your finances, here is a typical example:

• New-build property acquired: €216,000 (€180,000 + VAT €36,000)

• Annual rental: €8,640 (4% of the property cost)

• Annual general expenditure: €1,000

• Property depreciation: land cannot depreciate under French rules but property can over 25 years. If we assume land is 10%, €162,000 (90%) is depreciated at €6,480 per year

• 15-year repayment mortgage: €105,000 with 5% APR

• Professional fees: €300 to prepare leaseback French tax accounts and VAT returns

• We will assume the property is held for 30 years so there will be no French capital gains tax or social charges due on disposal of the property

• Owner is UK-resident and is a 40% taxpayer

As a UK resident, you would normally have to declare the income in the UK. There is no equivalent of the simplified treatments in the UK and in this example, the main difference between the UK profit and the French BIC réel profit is that depreciation cannot be deducted as an expense in the UK. Instead, you can claim wear and tear allowance for furnished lettings (equal to 10% of rents minus costs normally payable by the tenant, e.g. council tax and water rates). In most cases the wear and tear allowance will be significantly lower than the depreciation. Therefore the UK profit will tend to be higher than the equivalent French profit for the same property if depreciation has been deducted in France.

As a non-French resident, I have assumed the owner is subject to French income tax at the minimum rate of 20%. In addition social charges of 15.5% are due on rental income (revenus fonciers) but not on the trade income (BIC réel).

Glossary of regime terms

• Leaseback property under BIC réel: trade income, actual expenses deducted

• Leaseback property under micro-BIC: trade income, expenses deemed to be 71%

• Unfurnished property under foncier réel: rental income, actual expenses deducted

• Unfurnished property under micro-foncier: rental income, expenses deemed to be 30%

The leaseback property under the BIC réel regime is by far the most tax-efficient because French VAT is refunded for new-builds and there are no French social charges.

What’s the catch?

This example was deliberately chosen to highlight why French leasebacks can be very tax-efficient investments. The savings come from the fact that they are long-term investments, which is also why they carry some risk. Below are a few possible risks associated with French leasebacks:

• Part of the French VAT refund will have to be repaid to the French tax authorities if the property is sold within 20 years.

• If the initial nine-year lease with the property management company is broken then the VAT treatment is called into question from the outset. This can be particularly inconvenient if you are several years into the lease. The same applies if the conditions for qualifying as résidences de tourisme classées are no longer met by the property management company.

• The ‘guaranteed’ rent from the property management company may not materialise if the property management company does not meet its expected rental targets. In extreme cases the property management company may fold midway through the lease, which may force the investor to do something different with the property or indeed sell it, which again may compromise the all-important VAT advantage.

To conclude, French leasebacks can be very tax-efficient investments but you have to be ready to commit for the long term (at least nine years, preferably 20 years) and you should satisfy yourself as far as possible about the property management company’s ability to last the course and to deliver on the guaranteed rental.

Kehinde Dauda is a bilingual chartered accountant and director of Greenwich Taxation Services

Tel: 020 3651 0016

www.greenwichtax.co.uk